Extraordinary monetary policy support is expected to continue in 2021
The European Central Bank expanded and extended its monetary policy toolkit in order to maintain supportive financial conditions via (i) low government/corporate bond yields (PEPP, APP) and (ii) ample bank lending flows to the real economy amid favorable funding conditions for commercial banks (TLTRO-III, PELTROs, relaxed collateral rules up to June 2022). The ECB will be “active” until there is widespread vaccination and normalization of economic activity.
The total envelope of the PEPP increased by €500bn to €1.85tn and its purchasing horizon by nine months to at least the end of March 2022 (reinvestments will continue until at least the end of 2023). The “open-ended” net purchases under the APP will continue at a monthly pace of €20bn, whereas the temporary envelope of €120bn was not extended. As a result, the ECB will enter 2021 with a monthly pace of purchases in the tune of circa €100bn.
In addition, the ECB extended the period of TLTRO-III by 12 months to June 2022 allowing euro area banks to access liquidity at ultra-low rates of -1% (minimum) if certain lending targets are met. Four additional pandemic emergency longer-term refinancing operations (PELTROs) will be offered in 2021.
Growth projections for 2021 were revised lower to +3.9% from +5% as the containment measures imposed in October and November 2020 are assumed to be maintained in the first quarter of the next year. Thereafter, as medical solutions become widely available, a relaxation of these measures is being assumed with a broad resolution of the health crisis by early 2022. It should be noted that the projections incorporate only partially the effects of the supportive measures of the “Next Generation EU” recovery fund (around 0.5% of GDP in each year in 2021-23 period or half of the NGEU Grant envelope of €390bn – see Economics).
The Federal Reserve may implement qualitative outcome-based guidance that links the horizon over which the FOMC anticipates it would be conducting asset purchases (current pace of circa €120bn per month) to economic conditions on the forthcoming meeting (due on December 16th). Moreover, the Fed could try to enhance its current degree of accommodation by lengthening the maturity of the Committee’s Treasury purchases (currently at circa 7.5 years). Since March 11th, the FOMC has purchased $822bn (or 39%) securities with maturity in 1 to 5 years, $503bn (24%) in 5 to 10 years, $381bn (18%) in over 10 years and $402bn (19%) in less than 1 year.
Global equity markets paused for breath in the past week with the S&P500 declining by 1% wow after having recorded gains in the 4 out of 5 previous weeks (+12% since end October). The resurgence in new Covid-19 daily cases and the continuing uncertainty regarding fiscal stimulus weighed on investors’ sentiment. At the same time, euro-area periphery bond yields reached new all-time lows following the ECB’s expanded monetary policy, whereas the EUR remained broadly stable at $1.21 as a lot of monetary policy expansion has been priced in already. Staying with FX market, the British Pound continues to exhibit high volatility, as the investors try to price in the contradicting news about a post-Brexit trade deal (-1.6% against the euro and -0.3% against the US Dollar since December 1st).